Navigating the evolving regulatory landscape: Eurex’s strategic vision for the Repo Market

We are facing an evolution in the regulatory landscape that has very clear implications on the repo market. Once the post Covid settling phase is over, what are Eurex’s projects for the next 5 years?

The repo market is integral to the smooth functioning of the financial system. For this reason, nearly every change to prudential or markets regulation has implications for repo market functioning, which are often adverse in the short-medium term. While the framework for Global Systemically Important Banks and the Leverage Ratio have historically been the most heavily constraining, there are other developments such as: regulatory reporting under SFTR; tightened frameworks for standardized risk-weighted assets and the net stable funding ratio; and the expected move to T+1, which also have profound implications for market structure and functioning. 

At Eurex we are fully committed to providing solutions to help global and domestic European banks and their clients to adapt and manage their business in the most effective way under the evolving regulatory landscape. Eurex is uniquely placed in the market as we cover the centrally-cleared repo segment for the: cash-driven market, where we hold the leading position in Europe; and collateral-driven markets, where the last few years have seen our market share grow and evolve into a pan-European offering. Central clearing offers risk, settlement and most importantly balance sheet netting on a multilateral basis, which will be critical in managing scarce risk capacity, liquidity buffers and capital resources both today and in the future where constraints will be expected to grow.

The fragmented settlement landscape in Europe has been a drag on repo market functioning, but we see tremendous opportunity with the European Collateral Management System (ECMS) project of the European Central Bank. In partnership with our sister company, Clearstream, we are aiming to position our offering to align with ECMS’s capabilities. This will be a multi-year journey, but we are working with domestic central banks and private sector technology vendors such as VERMEG to ensure that no stone is left unturned in the search for efficiencies and reducing the frictions that foster market fragmentation. Our latest initiative, which is the expansion of Specific ISIN repo settlement in central bank money to French, Spanish and Italian government bonds has received widespread support.

Finally, with the evolving regulatory landscape increasing the pressure on the balance sheets and the risk appetites of internationally active banks and large domestic banks, Eurex remains focused on its buy-side solutions. We have developed innovative access models for the full spectrum of buy-side clients, from large pension funds and insurance companies through to hedge funds. This provides more autonomy for these clients and greater flexibility for banks to build and maintain those client relationships. These models have already yielded material benefits for a number of large Dutch pension funds, which leverage Eurex’s deep and liquid cash- and collateral-driven repo markets to manage their large liquidity buffers. We have a healthy pipeline of pension fund and insurance clients, and the interest from hedge funds remains strong. These developments will be mutually beneficial to both our banks and buy-side clients and diversify and increase the robustness of Eurex’s repo market structure.

More specifically what is in your view the impact of ECB policies (which will lead to new rate cuts) on GC Pooling?

Eurex has a number of touchpoints with the ECB and we have a lot of respect for the challenges that the ECB has faced over the past five years and will face going forward. Interest rate actions (e.g. cuts, hikes or keeping them on hold) are important in terms of the motivations for the level of term repo transactions in the market, but the bigger question we grapple with is the interplay between rate levels, excess liquidity and the collateral channel.

The most wide-reaching development in the last twelve months has been the outcomes of the ECB’s Operating Framework Review. The announcements have made clear that the ECB will take a very conservative approach to monetary policy normalization. The aim is to reduce the likelihood of market disruption as it winds-down the balance sheet. The granting of unlimited liquidity to banks through the MRO and LTRO facilities and on very generous terms in terms of levels and collateral eligibility is a cornerstone of the ECB’s policy. Further it is the ECB’s expectation that banks actively accessing the facilities should not be cause to attract any stigma from supervisors, investors and their advisors (e.g. rating agencies).

We have studied those communications in detail and have developed a number of different scenarios to understand how those policy measures could impact our markets. We have discussed those scenarios with individual bank clients and a large majority are skeptical of any material downsides for our GC Pooling and collateral-driven repo markets.  Even if the stigma of accessing the MRO and LTRO facilities is overcome, bank’s collateral will still be directed towards the most optimal liquidity channels and Eurex’s ECB, ECB Extended and INTMXQ baskets and uniquely positioned when assessed against the ECB’s collateral eligibility spectrum and terms. Further, any headwinds for our GC Pooling business as a result of banks accessing the MRO and LTRO facilities will be mitigating by our ongoing buy-side market development initiatives, as those clients do not have access to the ECB.

The ECB’s monetary policy objectives are only as effective as the channels through which its measures are transmitted, and the repo market has always been a critical channel. However, the underlying message from the ECB’s operating framework review is that the ECB has lost trust in the inter-bank repo market as a mechanism for effectively redistributing excess reserves throughout the financial system. The industry has a lot of work to do to rebuild that trust, so that the ECB has the confidence to reduce its footprint in the markets, while not compromising on financial stability.

The financial sector increasingly needs young talents. How do you see your role at ICMA also with respect to the Association’s tangible commitment to foster the development and training of senior executives capable of applying the very comprehensive regulatory framework to the different needs of financial institutions, like Eurex?

What kind of contribution and/or perspective do you see in the development of ICMA's activities that can then be reflected and guide associations such as ASSIOM FOREX in their respective countries?

The European financial sector has numerous complex structural problems that need to be solved, in order for the sector to effectively contribute to sustainable growth in the real economy in Europe and prosperity for its citizens. Attracting talent to the European financial sector will be critical to solving those problems, but talent should not be viewed through the prism of age. Whether that talent comes from early school leavers, new university graduates, experienced professionals transitioning from outside the industry or within the industry, or semi-retired professionals, there are enough problems to be solved to give talented individuals fulfilling roles and meaningful careers. The challenge is getting the right people, with the right skills and motivations, in the right roles at the right time. 

Eurex actively engages with industry associations such as ICMA, which plays a leading role in raising awareness of current and emerging issues in the capital markets industry. I am particularly happy to be a member of the European Repo & Collateral Council (ERCC) for some years now to contribute educating and shaping the European repo and collateral markets. ICMA events promote dialogue on these issues and the networking opportunities directly (and indirectly) contribute to talent mobility.

While the regulatory framework is an important dimension, market structure and industry standards and practices can be equally as important and can evolve independently of regulation. ICMA has a range of engagement channels ranging from councils and committees which review such issues at the strategic level, to working groups and forums which work at the operational level to identify solutions and propose approaches and standards that are harmonized across the industry. The shared knowledge and cross-firm relationships established through these channels fosters that development and training of industry professionals as they progress through their careers. Eurex’s senior management and operational professionals actively participate in ICMA’s engagement channels.

Despite the important role ICMA plays, there will always remain a strong role for industry associations like Assiom Forex at the country level. Not all firms have the resources to contribute to international industry associations like ICMA, and there can also be language barriers which disincentivize participation.  While financial services have become increasingly globalized over the past three decades, domestic practices and standards remain firmly embedded at the individual country level and at Eurex we see local industry associations as the stewards of these practices and standards. ICMA would benefit from more active collaboration with domestic associations, which could perhaps be facilitated through an ‘observer status’ membership class. Most importantly, domestic associations such as Assiom Forex should be encouraged to challenge ICMA on its policy positions when they are at odds with domestic industry best practices.

This was first published by ASSIOM FOREX (Publication no. 45).